Breathing Room: Why the Fed Won’t Lose Its Patience Over This Jobs Report

Published: Friday, February 3, 2017 | Author:

Josh Wright, Chief Economist

The January jobs report gives the Federal Reserve a touch of breathing room as it plans its pace of rate hikes for this year. This was another month when the headline numbers were overshadowed by what typically are secondary indicators. The increase in labor force participation reflected more people looking for a job, which suggests there are still workers out there who could be tempted back to the labor market if the Fed does not hike too quickly. Furthermore, slightly slower wage growth – especially in the context of the strong dollar – suggests the Fed still has some time before inflation breaks out in earnest. That said, this report will not change the fundamental view that the U.S. economy is near full employment and the Fed needs to proceed with rate hikes later this year.

The headline for job growth was a robust 227,000. Despite a net downward revision of 39,000 to the prior two months’ numbers, the 3-month average rose to 183,000 from last month’s as-reported 165,000. That is a lot more than the 60,000-100,000 that economists believe is necessary to absorb new workers, and helps explain why sidelined workers would be tempted to rejoin the labor force and baby boomers would be tempted to defer their retirements and stay in the labor force.

The industry breakdown for payrolls showed acceleration almost across the board. There was a modest surprise in slower growth for education and health services (24,000 versus 45,000 prior) – one would not necessarily expect efforts to repeal the Affordable Care Act would have any impact yet. A bigger surprise was the leap in construction payroll growth to 36,000 from 2,000, although this was not that far off from November’s 28,000. That looks likely to moderate as higher interest rates drag on homebuilding. The deceleration in manufacturing (5,000 versus 11,000) is consistent with recent dollar strength and the continued slide in government payrolls (-10,000 versus -8,000) was predictable following the presidential election.

The bigger news in the establishment survey was the deceleration in average hourly earnings for all employees – to 2.5% from 2.8%, which was itself a downward revision from the original estimate of 2.9%. The milder wage numbers were surprising given that raises in the minimum wage went into effect in 19 states and 23 metropolitan areas across the country.

In the household survey’s portion of the jobs report, the unemployment rate ticked up to 4.8%, but it rose for a good reason: more people looking for a job and therefore counted as part of the official labor force. The labor force participation rate rose to 62.9% from 62.7% -- its largest single-month gain since April 2010. Broader measures of joblessness rose for the same reason, including the underemployment rate (9.4% versus 9.2% prior), as the number of people who had to settle for a part-time job rose to 5.8 million from 5.6 million.

This strong jobs report was especially encouraging after recent economic data releases showed a bifurcation between so-called soft and hard data. Sentiment indicators have come in strong, but the data on actual economic activity have been somewhat less so. From the Fed’s perspective, though, there is a dark side here: this is more than enough job growth to keep the unemployment rate declining, and we are already within the range of what the Fed believes is full employment. Most economists expect job growth to moderate at this stage of the business cycle, not rebound, so this increases the risks of inflation. The Fed has other reasons to be patient – the outlook for fiscal policy isn't clear, and the risks to front-running other policymakers have only grown. A job reports such as this will not hurry them, but neither will it push them off course for further tightening.